A SPECIAL REPORT ON THE SOUTHERN CALIFORNIA ECONOMY : THE SOUTHLAND’S INDUSTRIES : Robust Construction, Real Estate Market Ponders Slow-Growth Future

Although most forecasters say Southland residential and commercial real estate markets will remain strong over the next several years, some worrisome trends that began taking shape earlier in this decade could come to a head by the early 1990s.

Home prices are expected to continue rising faster than the overall inflation rate, and that means affordability problems are likely to get even worse in a state where only 31% of all households currently earn enough to buy a median-priced home.

Soaring prices near the coast should continue pushing most residential construction to inland areas where land is still relatively cheap, such as Riverside and San Bernardino counties. But these fast-growing areas already riding high on a housing boom could run into financial trouble if they can’t lure enough commercial development to help pay for roads, schools and other public services.

Availability of office space is expected to remain fairly tight in most places even though construction activity will rise, as more East Coast firms open West Coast offices and as a continued influx of foreign investors helps to push rents and property values higher. But even though developers are expected to restrain themselves from building too many new office towers, a mammoth glut of space will be created if all the projects planned for downtown Los Angeles are actually erected.

Then there’s the new “wild card” that could upset all these carefully measured forecasts: the burgeoning slow-growth movement. How far this fierce grass-roots reaction to perceived overdevelopment goes is anyone’s guess.

“We have seen only the bare beginning of the politicizing of real estate development,” says Sanford Goodkin, a San Diego-based real estate consultant. “Researchers can make all the forecasts they want, but no one really knows what sort of impact the slow-growth movement is going to have on Southern California.”

Most analysts say the full effect of local slow-growth measures--such as Los Angeles’ Proposition U, which limits density--passed this year or next are not likely to be felt until the early 1990s, unless they are extremely restrictive. Even then, many projects would likely be exempted from the laws or builders could tie up the measures in court.

Perhaps the biggest change on the residential side of the real estate market over the next several years is the likely reversal of housing supply and demand ratios. According to a study prepared by the California Assn. of Realtors and released earlier this year by the Department of Real Estate, housing supply has outpaced demand since 1983, primarily because dropping interest rates spurred production and generous tax write-offs prompted construction of more apartments than much of the state really needed.

But rates are generally expected to drift higher in coming years, and many of the tax breaks builders used to enjoy--such as generous depreciation writeoffs--were scaled back by last year’s tax-reform legislation. The Department of Real Estate study predicts that these two factors should reduce statewide housing starts to about 170,000 units a year by 1990 and 150,000 by 1995, compared to the 230,000-unit pace today.

While construction rates fall, housing demand should rise as California’s population increases faster than the national average and more baby boomers reach the prime home-buying age. This year, the state’s new housing supply will likely exceed demand by about 40,000 units, according to the study, but, by 1990, demand is expected to exceed supply by 112,000 units.

“The end result of this imbalance is that the affordability problem is probably going to get worse over the next few years,” says Joel Singer, CAR’s chief economist. “Rents and home prices are going to keep rising, and incomes aren’t going to keep pace.”

The gap between supply and demand will probably reach its peak in 1990, Singer says. Affordability will gradually improve toward the end of the century as the number of new households created each year tapers off and the downward trend in construction levels off.

Until then, the economist says, a growing number of residents in highly urbanized Southland areas will remodel instead of move and many non-residential buildings will be converted for residential use.

The city of Los Angeles, bucking statewide trends, will likely see an increase in apartment and condominium construction over the next several years because buildable lots in urban areas are scarce and land prices have soared, Singer says.

The land shortage is also expected to trigger a big increase in the number of so-called “in-fill projects,” especially in Los Angeles and Orange counties. “We’ll see more buildings squeezed onto vacant lots in heavily urbanized areas, and projects that call for the demolition of low-density buildings in favor of higher-density uses,” says Dennis Macheski, principal planner for the nonprofit Southern California Assn. of Governments.

Still, most residential growth is expected to continue marching toward outlying areas where land remains relatively inexpensive--Riverside, San Bernardino and Ventura counties, the northern portion of Los Angeles County and the southeast part of Orange County. According to a recent SCAG study, those areas will capture two-thirds of all housing growth in the agency’s six-county area through the year 2010.

But while those outlying areas will continue to attract home builders, they probably won’t lure enough commercial and industrial developers--and that could create some colossal financial headaches for those regions within the next few years. Residential projects usually eat up more tax dollars than they generate, because the huge cost of maintaining a neighborhood’s infrastructure--roads, schools, sewers and other services--exceeds the tax revenue that residents provide. Commercial and industrial projects, on the other hand, typically generate enough revenue to pay for their own services and leave the city with a tidy surplus.

“Although the outlying areas are going to get two-thirds of all the housing growth, 57% of all the employment growth is going to occur in the inlying areas” of Los Angeles and Orange counties, Macheski says. “That could create financial problems for cities in the outlying areas--not to mention more traffic going to and from Los Angeles and Orange counties, more smog, and more energy consumption.”

The areas with the future’s hottest housing markets will get some of the money that they need to provide services from the fees they charge developers, Macheski says. However, he added, “Developer fees won’t be enough to cover expenses, and services will probably have to be cut back.”

In fact, municipalities across the state could find themselves in a financial bind if the fees they’re allowed to charge developers are sharply reduced by the state Legislature or by the courts--something many experts say could happen within the next few years.

One bill that would abolish developer fees for new school facilities was put on Sacramento’s inactive list last month, but it will automatically be considered for further action next year. Several California builders are making headway in court battles over fees some cities charge. Many developers and their attorneys are confident that their arguments against what they consider excessive fees will eventually be validated by the U.S. Supreme Court, which sided with builders in two landmark cases earlier this year.